Definition

# What Is Profit Margin? Formula and Types of Profit Margin with Example

Profit Margin is a measure of a firm’s return on sales that is computed by dividing net income by net sales. One ratio of particular importance in evaluating a firm’s income statements is the profit margin. The formula to calculate the profit margin is given below -

Profit Margin = (Net Income / Net Sales) x 100

A firm’s profit margin tells it what percentage of every dollar in sales contributes to the bottom line. An increasing profit margin means that a firm is either boosting its sales without increasing its expenses or that it is doing a better job of controlling its costs.

In contrast, a declining profit margin means that a firm is losing control of its costs or that it is slashing prices to maintain or increase sales.

Types of Profit Margin (PM)

There are a few different types of these margins when it comes to business and they are -

• Net PM
• Gross PM
• Operating PM
• Pretax PM

For example, the company’s net income is \$8000 and net sales are \$10000. So, the profit margin would be: (\$8000 / \$10000) x 100 = 80%. If a company has met 80% profit margin by the middle of the year, that means it has acquired a \$0.8 profit on each dollar spent.

Use of the term in Sentences

• Constantly declining profit margins cannot be a good sign for any business.
• Generating higher net income can ensure a higher profit margin.

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